Portfolio Positioning for High Inflation

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After many years of lying low, inflation has raised its ugly head to the utter dismay of policymakers around the world. The average Global inflation is multi-decades high. The commodity index is up by 60% over the year.

Many investors of today do not have much idea about how persistently high inflation can be ruinous to the economic health and their own wealth.

The big question is how to position yourself for the onslaught of high inflation?

After consistently denying runaway commodity prices by labelling them as transitory, the major central banks led by the US Fed have started acknowledging the persistent nature of current inflation and indicated their intentions to curb it by tightening the monetary policy.

However, this is not going to be easy. The world has accumulated a significant proportion of debt at low yields (thanks to reckless money printing) that any meaningful monetary tightening can plunge the economies into recession.

On the other hand, letting inflation run amok by keeping loose monetary policy is disastrous to economic and political stability.

The central banks are between a rock and a hard place and are fast losing credibility. The mess they are in is their own doing.

One can look at the 1970s decade to understand how the current situation may pan out going forward. In both the present and 1970s situation, loose monetary policy was followed by high crude prices. Persistent high inflation had conditioned people’s minds for higher inflation expectations which went to as high as 16%. In order to crush inflationary expectations, the US Fed had to engineer recession by increasing the interest rates to 20%, an unimaginable number at the beginning of the 1970s decade when interest rates were close to 4-6%. Here is how different asset classes behaved in the 1970s and what we can learn from that episode:

Equity: At the very beginning, the loose monetary policy resulted in a sharp rise in stock price valuations. It was followed by a meltdown after the realization that inflation was higher and longer than initially anticipated. Similarly today, easy monetary policy has boosted the equity market valuations. At present, one should be underweight equity depending upon the risk profile.

Debt: Long-tenure bonds suffered huge mark-to-market losses in a rising interest rates scenario. It makes sense to invest in short-term and floating-rate debt funds to mitigate the risk of rising yields and avoid getting stuck at low yields for a long time.

Gold: The only asset class which delivered fantastic returns in the 1970s decade. Having 15-20% of your portfolio exposure in Gold is highly recommended.

History is vast and has many important lessons to learn. One should remember the words of Kely Hayes “Everything feels unprecedented when you haven’t engaged with history”.

Truemind Capital is a SEBI Registered Investment Management & Personal Finance Advisory platform. You can write to us at connect@truemindcapital.com or call us at 9999505324.